For a while now, I have been expecting a coordinated, global central bank action that would seek to print more money out of thin air, or "QE" (quantitative easing), as it is now called. Now we have two of the most important central banks, that of the U.S. (the Federal Reserve) and in Europe (the ECB) having committed to open-ended, limitless QE.

In Part I of this report, we analyze the actions themselves, and then in Part II we discuss the implications to individuals and those with responsibilities to manage money.

The most recent announcement came from the Fed, and it had these features:

The creation of $40 billion a month out of thin air to purchase agency mortgage-backed securities (MBS)

The continuation of Operation Twist, which uses short-term Treasury bills and notes on its books to purchase long-term Treasury paper (that's 10- and 30- year bonds)

When MBS payments come in – the Fed holds over $840 billion dollars of those – they will buy still more MBS paper ('rolling' the payments into new MBS, as it were).

Taken together, the Fed will expand its balance sheet holdings of long-term assets (i.e., "debt") by ~$85 billion per month through the end of the year...but wait! There's more...

This time, unlike the prior two QE efforts, the actions will be taken without any pre-defined limit.

QE will continue until the labor market improves "substantially," whatever that means. But wait...there's even more!

If deemed necessary, the Fed will "purchase additional assets" and "employ other policy tools."

As if all that weren't enough, for good measure, the Fed committed to a six-month extension of the 0.0% to 0.25% target range for the Fed Funds rate until at least mid 2015.

That laundry list can be summarized as 'we will do whatever it takes.' If anyone was still wondering if the Fed would 'allow' deflation to happen on its watch under Bernanke, perhaps the above points in combination with QE 1 and QE 2 will settle their minds.

But will it work?

Well, that all depends on what your definition of 'work' is.

Without context, I really don't know how to explain the importance of these recent actions. In order to address the implications of this historic move – remember, now is the time to keep a journal, as your future relatives will want to know all about what happened 'back then' – I'm going to rewind this story back a few years.

Review of How We Got Here

Since the very beginning of my public writings, I have leaned heavily towards the path of inflation, by which I mean money printing or its electronic equivalent, because even a cursory review of history will show that leaders have always chosen a little money printing today and the possibility of inflation tomorrow over the immediate pain of having to live within their means or with the consequences of their poor decisions.

That was just a fancy way of saying 'humans will be humans,' and while our technology has advanced tremendously over the past few decades, our DNA blueprints are virtually identical to those found in people living 50,000 years ago. History can tell us much.

Our current predicament has its roots way back in the early 1980s, when something changed in our collective psyches that allowed us to abandon thrift and savings in favor of spending and borrowing. This first chart, which references the U.S. (but in reality could apply equally well to most developed countries) show how borrowing has outpaced income (debt vs. GDP).

In order to believe that the Fed or any other central bank can get us back to 'normal,' you have to believe that it is normal for borrowing to exceed income and (here's the kicker) that it can do so forever. Many people cling to the thin hope that somehow the Fed and its related entities across the globe can get us safely back on the yellow line in the above chart, angling forever upwards at 45 degrees.

Well, if it's not possible for you, personally, to forever borrow more than you earn without someday getting into financial difficulty, it is not possible for two or ten or 310 million of you to do so. The math does not change simply because a nation is involved instead of an individual.

To really drive home the point that what our leaders have accepted as 'normal' and are endeavoring to resurrect is anything but normal, I find it useful to present this chart, which shows how the total credit market debt (that's everything) in the U.S. has doubled and then doubled again and again and again over the past four decades:

What 'getting back to normal' requires is that we find a way to continue expanding debt exponentially with a doubling time of around 8 years. That's what the last forty years have seen, and that's the period during which every single leader at the Fed and in DC grew up and developed their views around 'how the world works.'

Unfortunately that's not how the world actually works. In the real world your income and expenditures have to eventually balance, and the only question is whether this is accomplished through diligence or catastrophe. The prior forty years were an admirably sustained departure from reality, but like all teenage road trips fueled with a pilfered credit card, the practices of those times were unsustainable and destined to end.

Hopefully by widening up our lens a little bit, we can more easily appreciate that instead of being 'normal', the vast expansion of debt was actually quite abnormal, and therefore attempts to resuscitate its prior trajectory are (1) certain to fail and (2) going to make the final crunch a lot more painful and damaging than it otherwise needs to be.

And oh, by the way – world oil is trading at $114 per barrel. Recoveries are tricky business at half that price.

QE Will Lift Stocks and Commodities

While left out of the official FOMC (Federal Open Market Committee) policy statements, but not Wall Street Journal editorial pages, is that a primary goal of the Fed is to boost stock prices. The stated reason is that the so-called wealth effect will lead households to view their rising portfolio statements and go out and spend more money. An underlying reason has to also be the fact that pensions, endowments, and other long-running actuarial pools of money are being destroyed by too-low rates of interest on bond holdings and desperately need stock-market gains to cover some of the shortfall.

QE and its distant cousin Operation Twist both serve to lift stock prices. QE does this in two ways – first by dumping money into the financial system, which then has to go somewhere and do something, so some of it ends up in the stock market, and second by driving down interest rates, which has the tendency to push money into stocks.

Operation Twist, which is balance-sheet-neutral for the Fed (short-dated securities are traded for long-dated securities – it's a swap) only serves to drive down interest rates on the long end of the curve. No new money is created.

As we can see, stocks respond well to both types of stimulus:

As we might also note, when the stimulus ends, stocks respond unfavorably. It would seem that the Fed is now trapped and that if it ever pulls away from the market there will be a rout of historic proportions.

Commodities really only respond to new money, which makes sense. Lower interest rates on the long end of the curve do not change the preference for commodities much, and so Twist might be expected to do little, if anything, for commodities. That's exactly what we see in the data:

While the Fed may not be too pleased with rising commodity prices (with all that's going on in the world with unrest, drought, and $114 Brent crude), it seems quite likely that rising commodity prices stand a good chance of being a feature of QEternity, or whatever this new program will finally be branded.

The Trouble with Printing Money

It is against the larger backdrop of borrowing and spending well beyond our means that we need to interpret this most recent effort by the Fed to print our way back to prosperity.

One way to look at the $40 billion per month in new printing is to compare it to individuals and households. Remember, money only comes into your life through effort, and that's why it has value and can function as a store of value. Once upon a time you could make the choice as to whether to work to find money (by mining gold or silver) or work to earn money by farming or practicing a trade, craft, or service. Note that work was always involved.

What does it mean that the Fed can just up and print $40 billion per month indefinitely without performing any work whatsoever?

Well, let's put that in context. If an individual earns $50,000 per year, then each month the Fed is effectively printing up the yearly output of 800,000 such individuals. Said another way, if you earn $50k, then you'd have to work for 800,000 years to earn the same amount of money the Fed prints each month.

Given that the median household income is ~$50k, this means that after one year of MBS purchases, the Fed will have printed up as much money as 9,600,000 households will have earned. Presto! Just like that, the Fed is effectively creating the exact same purchasing power as nearly 10 million US households, or 25 million people (I'm rounding a bit here).

And nobody had to do anything except push a key on a computer a couple of times.

While the Fed can wrap this magic act in all sorts of covering language about dual mandates, maximum employment, and price stability, the simple fact remains that money printed out of thin air cannot, has not, and will not ever lead to prosperity. How could it? It arises without any effort at all, no work performed, no goods transformed or lives improved, no land planted and tended well, no services rendered, and no capital formed. It is just conjured into existence.

It is just new money tossed after bad debts, with both remaining to work their different insidious effects on the economy and our daily lives. If printed money could lead to prosperity, trust me – some culture would have worked it out long ago, because people every bit as clever and determined as those alive today (and with the same DNA software installed) have tried it again and again.

If it could work, then we should just print every household up a nice $1,000,000 check each year and let everybody stay home, take vacations, and drive nice cars. It's just an absurd notion, and this is why you should keep a journal – you live in absurd times.

Conclusion

How does all this end? Like it has every other time in history, with a final destruction of the currencies involved. That's my best guess.

This is why I view all of the QE efforts to date, and those that will certainly follow, not only with suspicion but as a series of unforgivably narrowly-conceived efforts that will combine into one of the most colossal failures ever experienced by modern man.

In Part II: Understanding the Implications of QE3 we analyze how the recently-announced liquidity measures by the world's largest central banks will impact major asset classes (stocks, bonds, precious metals, commodities, real estate). And at a higher level, we look at why – at the dawn of this next phase of our economic and fiscal descent – prioritizing wealth preservation is essential. I remain convinced that the fate of most will be to lose most of their wealth during this process by trusting that the majority cannot be wrong when that is exactly the most likely case.

Join the discussion

26 Comments

Australia has been lucky so far and we enjoy high interest (>5%) on our funds. It is also a country loaded with commodities and has relatively low national debt - but has one of the highest personal debt levels in the world.

Would be obliged for your view on Australia and the Ozzy dollar. It is difficult to know when to switch to hard assets due to interest rates being high and house prices starting to come down (significantly in some areas).

Thank you for this excellent analysis - not being very knowledgeable in the technical aspects of financial tools/options, I always appreciate when you explain things in a way that is easy to understand - and you're very good at it.

I live in Canada and I am told that canadian banks have been much more prudent than in other countries; that said, the canadian economy is highly dependent on the health of the US's. So how do you perceive the safety (or danger) of having $ in canadian institutions? How is QE3 going to affect us up North?

We have followed some of your advice and purchased some gold, a piece of land with water rights - for which we are now in some debt with a low variable rate: do you think that the bank of Canada will align with the Fed at keeping its rates low (for the next 3 years?), in which case we should stay as is ? What should I be wary about that would tell me to lock our rate before it starts climbing up out of control?

Thanks for the guidance that you and all involved with your excellent site provide - after going through the stages of panic and despair, I am slowly getting through the phase of acceptance and your words of wisdom have been a huge help.

While the Fed can wrap this magic act in all sorts of covering language about dual mandates, maximum employment, and price stability, the simple fact remains that money printed out of thin air cannot, has not, and will not ever lead to prosperity. How could it? ...

...It is just new money tossed after bad debts, with both remaining to work their different insidious effects on the economy and our daily lives. If printed money could lead to prosperity, trust me – some culture would have worked it out long ago, because people every bit as clever and determined as those alive today (and with the same DNA software installed) have tried it again and again.

I'm sorry, but this idea makes me very uncomfortable. It's as if we are all to blame for our excesses. I believe there is a culture, or subculture, who did work "it" out, and they are a bunch of crooks in the financial sector and their wealthy, connected compatriots. They will skim the phony money out of our phony system and convert it to real, indestructable wealth, while the rest of us toil away, waiting for our pensions to start paying out.

That cloud of binary "money" is definitely precipitating out on a very select few heads. Who do you think created our current deregulated system for investing and saving?

We are! The vast majority of Western nations (particularly the US) have lived way beyond their means for decades. The vast majority have had much easier lives with less work and more rewards than we would have in an non-fiat distorted world.

sowhatareyousaying wrote:

I believe there is a culture, or subculture, who did work "it" out, and they are a bunch of crooks in the financial sector and their wealthy, connected compatriots. They will skim the phony money out of our phony system and convert it to real, indestructible wealth, while the rest of us toil away, waiting for our pensions to start paying out.

This is true, the people at the top of the financial sectors have benefited disproportionately more than the rest, but many of those at the top are just as clueless about the situation and will have much of their wealth evaporate when paper assets fail.

Sorry, but if you are relying on a pension, you have been lied to. If you are counting on Social Security and Medicare, you have been lied to. Politicians and bankers have lied to you - many who had no idea they were lying.

sowhatareyousaying wrote:

That cloud of binary "money" is definitely precipitating out on a very select few heads. Who do you think created our current deregulated system for investing and saving?

We did. We asked the politicians to look out for us. We didn't take responsibility for our own actions and gave the responsibility to others. It's not that we have a deregulated system, it's that we aren't taking responsibility for our own investing and saving. We gave bankers control of money creation because of the promise to ease natural fluctuations in the economy. We haven't demanded that politicians live within the taxing ability because they promised us free stuff.

So if you want to know who is responsible for the problems, it ultimately lies with you and your fellow citizens. Those promises that have been made will never be fulfilled. They never can be because the resources do not exist to do so. All we can hope is that people take a lesson from this mess and some of those lessons are:

Rhare, Thank you for your serious and sensible answer. I especially agree with two parts: Life isn't fair, and your first statement, which I take to be a reference to how fortunate the developed nations have been and how they will continue to be blessed with more of everything necessary to life than will the developing nations, who will suffer much more as the energy decline and climate problems play out.

Those who are ahead, who were born blessed, seem to stay on that track, and the ones born without an many resources have too many headwinds preventing them from pulling themselves up. So, when the whole world reels under collapsing economies and ecosystems, am I going to blame the poor as equally responsible? Hardly. To be responsible, you would have to wield some amount of power, no?

I do have a hard time understanding how almost 400 million Americans abdicated their responsibility to regulate the financial system, however. I voted for people who would be supportive of regulation, and I have donated to candidates in other states who would do the same, but we can't all be in the room writing the rules. And, obviously, I was outvoted by half my fellow citizens... I accept that, but not the blame for the boobs they voted in!

And I'm not asking for anything I didn't earn. We have paid into Social Security our whole lives. We bought houses we could afford and made the payments. We lived modestly and don't owe a dime outside of our mortgage. We save for the future, which used to be a virtue but is now a sucker's game. If I feel burned, it's not because I didn't get free stuff; it's because we played by the rules while a few at the top cheated and will condemn millions to poverty in old age.

I would just appreciate it if we could be more specific about who "we" is. We are not equal in power and influence, so how can we be equally culpable for what's gone wrong?

What does it mean that the Fed can just up and print $40 billion per month indefinitely without performing any work whatsoever?

Well, let's put that in context. If an individual earns $50,000 per year, then each month the Fed is effectively printing up the yearly output of 800,000 such individuals. Said another way, if you earn $50k, then you'd have to work for 800,000 years to earn the same amount of money the Fed prints each month.

Given that the median household income is ~$50k, this means that after one year of MBS purchases, the Fed will have printed up as much money as 9,600,000 households will have earned. Presto! Just like that, the Fed is effectively creating the exact same purchasing power as nearly 10 million US households, or 25 million people (I'm rounding a bit here).

And nobody had to do anything except push a key on a computer a couple of times.

What does it mean that the Fed can just up and print $40 billion per month indefinitely without performing any work whatsoever?

Well, let's put that in context. If an individual earns $50,000 per year, then each month the Fed is effectively printing up the yearly output of 800,000 such individuals. Said another way, if you earn $50k, then you'd have to work for 800,000 years to earn the same amount of money the Fed prints each month.

Given that the median household income is ~$50k, this means that after one year of MBS purchases, the Fed will have printed up as much money as 9,600,000 households will have earned. Presto! Just like that, the Fed is effectively creating the exact same purchasing power as nearly 10 million US households, or 25 million people (I'm rounding a bit here).

And nobody had to do anything except push a key on a computer a couple of times.

So, when the whole world reels under collapsing economies and ecosystems, am I going to blame the poor as equally responsible? Hardly. To be responsible, you would have to wield some amount of power, no?

No the poor are not to blame, but neither are the rich. Life is unfair, if you happen to be born into a poor country, or a poor family, or ... then yes you have a disadvantage. This will never change, there will always be inequality between people. Some are smarter, some are stronger, some have access to resources, others don't. How life plays out is largely luck, no amount of fiddling by us (humans) is going to change that.

sowhatareyousaying wrote:

I do have a hard time understanding how almost 400 million Americans abdicated their responsibility to regulate the financial system, however. I voted for people who would be supportive of regulation, and I have donated to candidates in other states who would do the same, but we can't all be in the room writing the rules.

With the statement above, you have abdicated your responsibility. You have chosen to turn over looking after your well being via regulation to a thrid party. You have chosen to give a politician/bureaucrat responsibility for your well being. Are you happy with the outcome?

Do you not see that regulation is simply using violence via the proxy of government to enforce your beliefs on others? Voting for regulation is giving up responsibility in hopes that a politician or bureaucrat will look out for your best interest? Instead of regulation wouldn't it be better if others were not forcing their beliefs on you and you had control over your finances?

Instead of voting for regulation, vote to remove regulation and take responsibility back. While many will say, but wait we need regulation for clean water, air, blah blah blah - fine just start with financial regulation. How about being responsible for your own savings, your own retirement, your own choice of money rather than hoping that someone else will do what you want?

sowhatareyousaying wrote:

And I'm not asking for anything I didn't earn. We have paid into Social Security our whole lives.

But you are, because Social Security has always been a ponzi scheme that could never work. Your money is gone because the people that came before you voted in regulation (SS) that would force you to pay into a system that was broken from the start for their benefit. Now you want to force the next generation to pay for you?

Yes, "we" as in you and I and all citizens are responsible. As long as we continue to use government as a force to get our way, we are all responsible.

I will pass on one of my favorite articles that addresses this issue. I have linked to it many times on this site because it is applicable in so many of the discussions:

Chris: Sanitized QE funds... In the Feds effort to NOT create instant inflation with flood of money, didn't they begin the interest rate payments for maintaining cash reserves at the banks. Not that the banks didn't WANT to make loans and move the money into the economy but they made MORE money, easily and with NO risk by accepting interest on their balances?

The repo rate... wasn't that also an attempt by the Fed to prevent a flood of cash causing MORE inflation in the economy??

okay, so the plan has a safety feature...sanitizing the money (preventing it's quick entry)...

Why in the world would you ever go with a Variable Rate? At these low rates, you should re fi at a fixed rate! Even if rates go down a bit, they have a WAAAAY larger chance of being MUCH higher in the future! Bite the bullet, you'll be happy that you did.

NatalieO wrote:

Hi Chris,

Thank you for this excellent analysis - not being very knowledgeable in the technical aspects of financial tools/options, I always appreciate when you explain things in a way that is easy to understand - and you're very good at it.

I live in Canada and I am told that canadian banks have been much more prudent than in other countries; that said, the canadian economy is highly dependent on the health of the US's. So how do you perceive the safety (or danger) of having $ in canadian institutions? How is QE3 going to affect us up North?

We have followed some of your advice and purchased some gold, a piece of land with water rights - for which we are now in some debt with a low variable rate: do you think that the bank of Canada will align with the Fed at keeping its rates low (for the next 3 years?), in which case we should stay as is ? What should I be wary about that would tell me to lock our rate before it starts climbing up out of control?

Thanks for the guidance that you and all involved with your excellent site provide - after going through the stages of panic and despair, I am slowly getting through the phase of acceptance and your words of wisdom have been a huge help.

Welcome to the forums. Chris seldom has time to answer questions, so I’ll try to help you, but I don’t speak for him. I have found that he is very scrupulous with data. But keeping articles concise imposes limits, and he has to avoid bogging down with too much detail.

The graph he used looks like it is from the Crash Course video, which was produced four years ago. I’m sure Chris wants to update the video, but it was a handy place to grab the chart with the annotations already in place. Your chart is correct, and we have seen a decline. Over $1trillion of debts have gone bad. In addition, we have added over $1.3 trillion per year in deficits for three years running, so GDP has been inflated by that much. The ratio is being reduce both ways. To my knowledge though it is less from paying down debt than inflating GDP. Explaining that would side track the narrative, which could be another reason to use the old graph. Besides, the heading above the graph was “Review of How We Got Here”. It was a history, not a current picture.

Good catch. I do need to update that chart; this one is from the Crash Course, completed in 2008.

Three things to note here. The first is that the one I need to update starts before the Great Depression, and the economagic data, even for my subscription service, starts in 1952. So I'll have to combine them somehow as the above chart comes from Ned Davis research and is just an image.

Second, you'll note that the 2006 data, rather quaintly, only achieves a 325% rating, whereas the data you linked to peaks out at 385% in 2009 and has subsequently declined to 352% of GDP.

So the current data is even higher than what I showed.

Third, and very importantly, once the Fed yanks debt onto its balance sheet, it 'disappears' from the Credit Market debt series, as the Fed is not a 'category' that is tracked. If we roughly calculate that the Fed has pulled $2T off the markets and that the economy is $15T, then they have pulled down the chart you linked to by 13%.

And lastly, Travlin is right, the extent to which the government has deficit spent to boost the apparent GDP skews things somewhat.

My main point, perhaps lost in all this, is that those currently in power....all they've ever known in their adult lives is steadily rising levels of debt, and that at least partially explains why this crisis has proven so vexing and difficult to manage.

Bill awoke to the sound of cars racing down his street. "Damn kids" he muttered before seeing that it was 5:30 AM. He knew he would have 15 more minutes to sleep before the alarm clock told him it was time to start another day.

He tried to sleep, but just pondered his financial situation for the nth time. He had about $half a million set aside for retirement, but wasn't sure if it was enough to carry him through the rest of his life. He was tired of working at the machine shop. The odor permeated his entire life - clothes, skin, everything! He really wanted a boat to go fishing. There was an affordable model at the marine shop that would let him fish the bay and surrounding rivers, but he really wanted the million dollar plus "Adventurer." He could spend weeks out on the high seas and forget about reality. He knew it would take winning the lottery or the Publisher's Clearinghouse sweepstakes to consider such a dream. He never played, so he knew that wouldn't happen.

Just as the 5:45 alarm sounded, he heard the doorbell ringing. "Who could that be at this hour?" he wondered as he made his way to the door. Another car raced by, but he was focused on the doorbell. He got to the front door and turned on the porch light. Looking through the cheap peep site in his door, he saw a handful of people in suits. They looked official, so he opened the door.

Just then, a camera flash blinded him momentarily and he heard the pop of a champagne bottle. As his eyesight regained its footing, he saw one person hand him a larger than life, foam-board check for $10,000,000 with his name in the "Pay to" location. They gave him a plastic cup filled with champagne and congratulated him on winning the Publisher's Clearinghouse FOMC Sweepstakes. As quickly as it unfolded, it ended and the crew of suits headed back to their van.

Bill didn't know what to do. He was dumbfounded. He took a sip of champagne from his plastic cup and winced. "You'd think they would buy something other than rotgut" he muttered beneath his breath. He looked at his check and realized this was the answer to his dreams. He could now quit working and live a life that he dreamed about. He was going to get that "Adventurer" boat and enjoy it as long as he could!

Just then, he was brought back to the present when he heard a car swerve in front of his place. A car was racing down the street and almost hit the group of suits from Publisher's Clearinghouse. They had another bottle of champagne and another foam-board check and were heading to the neighbor across the street.

He watched as they rang the bell and waited a minute or so. As the door opened, they flashed a camera, popped the cork, and handed his neighbor a check. In a few minutes, it was over and they were heading back to their van. Still in his bathrobe, Bill walked down to the van to ask them what was happening. As one of the suits pulled out the next oversized check, he explained that the Federal Reserve decided that everyone in America should be rich, so they contracted with Publisher's Clearinghouse to give every household in America $10,000,000. Today was the first day of the campaign and they had thousands of teams across the country giving this money away. "Isn't America great?" the suit asked Bill.

Bill heard another car racing by and looked up the block. He saw many of his neighbors standing on their doorsteps with slack jawed looks, holding the foam-board checks in one hand and the cheap plastic cups in the other. Reality hit him quickly.

He knew that these checks would quickly lose real value once it was obvious that so much new money was being circulated. He had to act fast. He calmly walked back to the house and quickly put on his best suit of clothes. They were clean, but still smelled of weld splatter. Then, he loaded his check in the car and headed for the bank.

Drivers were behaving erratically. Everyone was speeding and driving recklessly. He decided to do the same so he wouldn't get beat to the bank. As he turned the corner to the bank, he saw a long line of folks with the foam-board checks. They were too big to fit in the ATM so folks just had to wait for the bank to open.

Bill decided that rather than wait in line, he'd go to the Marine Shop. He knew the owner sometimes came in really early and that way he could buy the "Adventurer". He was sure the owner would be delighted enough to cash the check and give him a normal sized check for the difference.

As he arrived at the Marine Shop, he saw 2 other people anxiously waiting at the door with their foam-board checks. Apparently, they had the same plan as he did. As Bill walked to the store entrance to talk to the other customers and wait, the Marine Shop owner pulled into the parking lot. As the owner got out of his car, one of the 2 screamed that he wanted to "buy the 'Adventurer' and he had cash." The other guy offered to buy it for $1.5 million. The bidding war was on and quickly ended at $10 million. The owner saw the oversized checks and knew something was different. He just smiled as he opened the doors for business.

Bill could see other cars coming into the parking lot and people rushing to the store with their oversized foam-board checks. Once inside, people were madly bidding on any boat in the inventory. He watched as a small, outboard powered, fresh water fishing boat was bid up to $10,000,000.

Then, it hit him. Everything just changed. His scrimping and saving for decades to amass $half a million was reduced to insignificant peanuts in the matter of a few moments. When he awoke, he was ahead of the game and ready to retire. Now, he was essentially on the same financial footing as everyone else.

As quickly as the dream occurred, it turned into a nightmare. He decided to take the check home and save it for an uncertain future ... because that is what he had always done.

Then, it hit him. Everything just changed. His scrimping and saving for decades to amass $half a million was reduced to insignificant peanuts in the matter of a few moments. When he awoke, he was ahead of the game and ready to retire. Now, he was essentially on the same financial footing as everyone else.

I wrote that story soon after Bernanke got appointed to convince my brother (a visual thinker) that trusting paper promises was a bad idea. At the time, banks were still giving a few percent interest above stated inflation - at no risk. He was happy with those returns and chastised me for speculating on something that doesn't provide a return.

I mailed the letter and got a phone call a few days later. My brother asked sheepishly if that could really happen. We talked for most of the night about the future and how to prepare for it. Finally, his eyes opened.

This thread seemed like a good place to share the story with the PP community.

The real fact of the matter is that since about 2007 when the iphone came out, there really hasn't been much in the way of new technology... a 2002 laptop was clunky compared to a 2004 laptop, but a laptop bought in 2006 does pretty much the exact same thing as one on the shelf unsold in 2012... flat screen tvs, gps, digital cameras, smart phones... these things drove the economy along 2002 to 2007, but now what is there to buy that we don't already own ? I remember back in 2002, new stuff was hittting the markets almost monthly, it was impossible to keep up with the technology.. now there's nothing new.... what does an iphone 5 really do for you that an iphone 3 can't do... other than impress your girl friend ?

This is about to change, we are grinding through some technologically stale years, but in a few years from now, robotics will create a new technology boom. Cars that drive themselves, devices that do the ironing, cleaning, make the beds, change the sheets. Driverless delivery trucks, fastfood joints with no staff etc. etc. .... Mining companies are already installing robotic and remotely operated trucks into remote mines to save on labor costs. Hospitals have started using robots to take patients samples across the facility to the lab, and bring drugs (robots don't stop for a coffee, a pee and a smoke break and they don't get lost or chat with co-workers). These new things are coming, and there will be another technology boom.

Just like the last one, people will find themselves out of date and out of work, but a new wave of service workers will grow around them and a new industry of robotics will be created.

Bernake and Co. are mortgaging up the next tech revolution sure, it's going to be a bumpy ride to get there, but if the new gadgets kick in before the day of reckoning comes, we might just pull through it....

Some of the money printing and expanision of debt was justified the last few decades because the world is such a changed place. From 1980 to now, population has increased and the sheer amount of assett and technology in the system has increased exponentially, so there is a new value in the world that didn't exist in 1980.

It's a shame to spoil that by printing money like water in a flat part of the cycle, but they are not just giving cash money to the general public. I disagree with what they are doing, but I also disagree with hard money advocates. Businesses have to be able to increase borrowing to expand technology, as the world grows, money supply must increase. You can't peg money to gold, although its something that can't be faked and printed, if tommorrow someone invents an anti gravity motor and a teleporter, you won't be able to dig enough gold out of the ground fast enough to prevent a jam up in the financial system....

The paper system sucks because offficals and politicans can abuse it, but the gold system sucks because in times of technological expansion, you can't create new money to descibe the increase in productivity taking place, the world is pegged to men scratching about in holes in the ground to find more money to put into the system... that's flawed too....

Also if someone lands on mars and finds huge gold reserves and brings them back to earth, which could happen in 30+ years time, you will have a similar situation that destoryed the spanish empire, where so much gold and silver came back to spain from the americas, that the spanish ended up with terrible inflation and ultimately went bankrupt.

There is no easy solution... we have to make the best of a bad job.... Ideally money would come into place inline with real statistics and economic growth, that is supposed to be the feds job, and they did actually do a pretty good job for some decades, now it's got out of hand... let's see where we land up ....

The real fact of the matter is that since about 2007 when the iphone came out, there really hasn't been much in the way of new technology... a 2002 laptop was clunky compared to a 2004 laptop, but a laptop bought in 2006 does pretty much the exact same thing as one on the shelf unsold in 2012... flat screen tvs, gps, digital cameras, smart phones... these things drove the economy along 2002 to 2007, but now what is there to buy that we don't already own ? I remember back in 2002, new stuff was hittting the markets almost monthly, it was impossible to keep up with the technology.. now there's nothing new.... what does an iphone 5 really do for you that an iphone 3 can't do... other than impress your girl friend ?

This is about to change, we are grinding through some technologically stale years, but in a few years from now, robotics will create a new technology boom. Cars that drive themselves, devices that do the ironing, cleaning, make the beds, change the sheets. Driverless delivery trucks, fastfood joints with no staff etc. etc. .... Mining companies are already installing robotic and remotely operated trucks into remote mines to save on labor costs. Hospitals have started using robots to take patients samples across the facility to the lab, and bring drugs (robots don't stop for a coffee, a pee and a smoke break and they don't get lost or chat with co-workers). These new things are coming, and there will be another technology boom.

Just like the last one, people will find themselves out of date and out of work, but a new wave of service workers will grow around them and a new industry of robotics will be created.

Bernake and Co. are mortgaging up the next tech revolution sure, it's going to be a bumpy ride to get there, but if the new gadgets kick in before the day of reckoning comes, we might just pull through it....

Some of the money printing and expanision of debt was justified the last few decades because the world is such a changed place. From 1980 to now, population has increased and the sheer amount of assett and technology in the system has increased exponentially, so there is a new value in the world that didn't exist in 1980.

It's a shame to spoil that by printing money like water in a flat part of the cycle, but they are not just giving cash money to the general public. I disagree with what they are doing, but I also disagree with hard money advocates. Businesses have to be able to increase borrowing to expand technology, as the world grows, money supply must increase. You can't peg money to gold, although its something that can't be faked and printed, if tommorrow someone invents an anti gravity motor and a teleporter, you won't be able to dig enough gold out of the ground fast enough to prevent a jam up in the financial system....

The paper system sucks because offficals and politicans can abuse it, but the gold system sucks because in times of technological expansion, you can't create new money to descibe the increase in productivity taking place, the world is pegged to men scratching about in holes in the ground to find more money to put into the system... that's flawed too....

Also if someone lands on mars and finds huge gold reserves and brings them back to earth, which could happen in 30+ years time, you will have a similar situation that destoryed the spanish empire, where so much gold and silver came back to spain from the americas, that the spanish ended up with terrible inflation and ultimately went bankrupt.

There is no easy solution... we have to make the best of a bad job.... Ideally money would come into place inline with real statistics and economic growth, that is supposed to be the feds job, and they did actually do a pretty good job for some decades, now it's got out of hand... let's see where we land up ....

Businesses have to be able to increase borrowing to expand technology, as the world grows, money supply must increase. You can't peg money to gold, although its something that can't be faked and printed, if tommorrow someone invents an anti gravity motor and a teleporter, you won't be able to dig enough gold out of the ground fast enough to prevent a jam up in the financial system....

There is plenty of money available for good ideas. When people save, they are storing capital that can be deployed to good ideas (like your anti gravity motor). If you have a good idea even in a hard money system lots of people will want to invest and there would be plenty of money. However, if just happen to be a hack who has a poor idea then, no it shouldn't be funded. Just because we have tons of sloshing liquidity funding everything from the dot.com bubble to the housing bubble doesn't make it good. What it does is move the risk from those investing to the general populace via inflation.

technet wrote:

The paper system sucks because offficals and politicans can abuse it, but the gold system sucks because in times of technological expansion, you can't create new money to descibe the increase in productivity taking place, the world is pegged to men scratching about in holes in the ground to find more money to put into the system... that's flawed too....

There is nothing that says that money has to expand in an economic expansion phase. In a non-fiat based currency, things become cheaper as you expand and then become cheaper to create with tecnological advances. Which is exactly what should happen. If you can make something easier, then it should become cheaper - less work, less effort or resources involved. A hard money system does nothing to limit expansion of technology, but it certainly can mean less care is taken in where to spend valuable resources by removing the risk from those taking it. A fiat money system makes bad decisions much more likely.

technet wrote:

Ideally money would come into place inline with real statistics and economic growth, that is supposed to be the feds job, and they did actually do a pretty good job for some decades,

Did you transport in from some other universe? The Fed doing a good job? They have destroyed 98% of the value of our money since they took over, 70% in the last few decades. They have hollowed out our manufacturing and job base, blew multiple asset bubbles, and allowed out of control government spending.

The Fed and a fiat money system does nothing to support an economy, all it does is allow an elite group the ability to distort the value of capital (labor and resources) to grant advantages to select institutions and goverment.

The Fed and a fiat money system does nothing to support an economy, all it does is allow an elite group the ability to distort the value of capital (labor and resources) to grant advantages to select institutions and goverment.

Agreed... I am not sure capital really even exists anymore... the rate of new, QE money creation so outrunning the rate of actual savings anymore. We need to get back to a system where capital has value.. where it earns a yield such that savers are encouraged and rewarded. For these reasons and more, I have lost confidence in the dollar already. There will be no Volcker to save us this time.

rhare, I agree - except I do not entirely blame the Fed for hollowing out our manufacturing base in the USA. We did that with legislation like NAFTA.

So many distortions exist that all have added to the loss of manufacturing base. However, I still put the Fed firmly as the root cause because many of the other distortions are a direct result of the Fed as well. For example:

The petrol-dollar has kept shipping costs artificially low for those US companies allowing them to move manufacturing elsewhere and ship back to the US.

The Fed has allowed a distorted military budget which protects US corporate interests outside the country - essentially free insurance.

The reserve currency the USD has been artificially high against other currencies. This has allowed US companies to build factories over seas cheaper than normal.

The Fed has allowed us to feel artificially wealthier allowing for feel good things such as minimum wage laws, state enforced unions, legislated benefits, etc. These all distort the real value of labor creating artificially high labor rates in the US which also move jobs out of the country.

In a non-distorted system I think free trade is great because it forces countries to remain competitive on a world stage. However agreements like NAFTA in the current system simply amplify the distortions. Also, the alternative to free trade is simply more distortions via tariffs - which are political methods to favor favorite industries.

This is about to change, we are grinding through some technologically stale years, but in a few years from now, robotics will create a new technology boom. Cars that drive themselves, devices that do the ironing, cleaning, make the beds, change the sheets.

Devices that do the ironing? I already have that.....they are called Haggar double knits and they don't need ironing. Ball 'em up in a backpack, knock out 75 miles on the AT from Loft Mountain up to Front Royal, hang 'em up in a shower and run the hot water for a few minutes and presto! Ironing's done.

Change sheets? Check. Make the bed? Nope - gotta let it air out so the dust mites can escape.

Quote:

Also if someone lands on mars and finds huge gold reserves and brings them back to earth, which could happen in 30+ years time, you will have a similar situation that destoryed the spanish empire, where so much gold and silver came back to spain from the americas, that the spanish ended up with terrible inflation and ultimately went bankrupt.

I have been to Mars and there isn't any gold. Lots of rutabagas, but no gold.

Martenson gets a lot of points correct, but misses the obvious correlation between the Feds (Greenspan's) efforts to suppress the cost of money, even during times of relative prosperity, and how it created the Tech Stock Bubble, followed by the Housing Bubble. In his charts, it's easy to see exactly where those bubbles developed, because the net effect is a doubling of the debt. There's good reason for the little blue triangles in that chart - They correlate exactly with the Fed's past mistakes.

He also suggests that the Fed prints money simply by pressing a button on a computer. It isn't quite that easy. The US Treasury has to issue, and auction off Treasury Bonds in amounts that correspond with the amounts of money the Fed prints. Those bonds are currently being purchased by Money Managers, Foreign Central Banks, and the Fed itself (as a means of creating artificial demand in the bond market, and therefore driving up the prices of the bonds being sold to monetize the Feds printing efforts). Did you get that last part? Yeah, it's a little thing they do to manipulate prices.

So if the Fed is playing all these games, why do investors and Central Banks still keep buying billions upon billions of dollars worth of Treasury Bonds? Because its the safest bet on the table. In a world where stocks and commodities and real estate remain volatile, the one place in the world where a Money Manager knows he has the best shot of getting his investment capital back is in US Treasuries.

Unfortunately, that kind of safety doesn't pay a very high dividend. The 10-Year US Treasury currently pays a dogshit rate of 1.65%. That rate is determined by the market as a function of supply and demand (it isn't up to the Fed). Bond prices and yields move in opposite directions. More demand in the marketplace means higher bond prices, and investors also have to accept a lower yield. That's why the Fed creates artificial demand of its own. The Treasury will get a higher price for the bond, and the interest they have to pay on that debt to investors will be lower. As long as buyers rush to the safety trade of US Treasuries, the Fed can print their asses off.

"How does all this end? Like it has every other time in history, with a final destruction of the currencies involved. That's my best guess."

The function of how this ends is fairly simple, although predicting the exact timing will be tricky.

It will end when some market, somewhere, looks more attractive to investors than Treasuries. The most obvious guess is that, at some point, the US Stock Markets will start to gain some footing and show signs of recovery. It doesn't even have to be predictive of a real, sustainable recovery. It just has to look good enough to lure Money Managers, Investors, and Foreign Central Banks away from the shitty 1.65% they're currently making on bonds. Our current rate of inflation is 2%, which means those bonds actually have a negative real rate of return for US Investors (1.65% Return minus 2% Inflation equals -.35% Real Return).

On any given day, you can watch the inverse relationship between the 10-Year Treasury and the S&P 500. When money flows into stocks, demand wanes for Bonds, and Yields go up slightly. When investors get spooked (by economic chaos in Europe, civil unrest in the Middle East, etc), money flows out of stocks, and demand for Bonds goes up, driving down the annual Yield. You may hear about it in the news as Risk On/Risk Off or The Safety Trade or whatever. When investors are bullish, money flows from Bonds into Stocks. When investors get nervous, their money goes from stocks into the relative safety of bonds.

When I was a kid in the early 80's, the yield on the 10-year note went almost to 15%. If that happens today, it means the cost of MAINTAINING the interest on the National Debt will go up almost 1000%. Yeah, 10 times what it currently is. We won't even have to get anywhere near those levels before Federal, State and Local governments become insolvent, the US Credit ratings are downgraded to junk and investors lose faith in the US Dollar. Medicare, Medicaid, Social Security, Food Stamps and the single biggest employer in America (The Government) will all be bankrupt. A valid argument could be made that they're already bankrupt, but people won't take real notice and start rioting in the streets until their paychecks start bouncing or simply disappear altogether.

That's how it's going to end - The US will default. Probably wont have any global implications though. The US Dollar is only the worlds Reserve Currency. The price of every other currency worldwide is pegged to the dollar in some fashion, so a US Default shouldn't be too traumatic. All the whole world will have to do is reprice their currencies against every other currency in real time as markets try to continue to function in an environment of global economic collapse. No need for concern, nothing to see here, move along.

There's just one problem - One man's debts are another mans assets. So what do you think all those investors and Central Banks from around the world are going to do when they don't get their payments from the US? And their economies and markets are in total fucking turmoil because of our actions? I wonder if anybody is going to get mad. What do you think US retirees, government workers at all levels, military, law enforcement and fire fighters are going to do when the payroll for many/most of them stops at the same time? History suggests there is going to be some serious civil unrest. Consider this: The last time a deleveraging event like this happened, it took years of world war and a couple of Hydrogen Bombs to snuff out the civil unrest. The damage at Hiroshima occurred in minutes using technology from the 1940's.

How efficiently will the destructive forces of economic rebalancing function this time?

Im not predicting a single cataclysmic event, like an earthquake or hurricane that causes an immediate collapse of world markets and Global Armageddon overnight. Markets are highly levered and incredibly complex, so, speaking in purely financial terms, I think it's more accurate to consider pockets of destruction rather than a total leveling of the countryside.

"This is why I view all of the QE efforts to date, and those that will certainly follow, not only with suspicion but as a series of unforgivably narrowly-conceived efforts that will combine into one of the most colossal failures ever experienced by modern man."

Martenson's right about that last part - And his point about whether economic rebalancing occurs through diligence or catastrophe is spot-on. Unfortunately, the Fed (starting with Greenspan) has already laid the groundwork to assure the latter.

Bottom Line: As long as hordes of investors have little choice beyond the safety of treasuries, Bernanke and the Fed can get away with debasing our currency and manipulating the bond market to some degree. And they will continue to print.

But the Fed isn't bigger than Mr. Market. Right now the Fed is doing everything it can to keep from getting crushed by Mr. Market, not the other way around.

When the market herd gets distracted by other opportunity, and starts to run away from treasuries, that will take away the Fed's printing press. It will also have some far reaching implications for the US Dollar and world markets alike.